The Futures / Inter Market Report
Trading the World’s Markets
July 20, 2007
Matthew Caruso, CMT
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Finding buys for gold & silver stock
Two weeks ago we looked at the probability of higher gold prices, http://tradesystemguru.com/content/view/68/58/. Since that report gold prices have rallied al little over $30 or about 4.5%. Some readers looking to trade gold & silver stocks rather than futures would have benefited more if gold & silver stocks would have also been analyzed. Therefore, this week will take a look at another approach to finding bottoms in gold & silver stocks and gold futures as well as look at our current situation.
Two weeks ago we looked at momentum oscillators, commitment of traders data and intermarket linkages to come to the conclusion that gold prices were likely to rally. This week we will add a new but old tool to our arsenal of trading techniques to find buying opportunities in gold and gold & silver stocks. Figure 1 shows buy signals from the past 9 years. As you can see, they have been timely and very lucrative. Now you may be thinking “what advanced oscillator or indicator called all of these major bottoms?” Well, sorry to disappoint you but it isn’t a complex mathematical formula that I want to sell to you. If you direct your attention to figure 2 you can see that these buy signals came from a break above a down trendline buy the relative strength between the $XAU (gold & silver stock index ) and the price of gold. The red line in figure 2 shows the comparative relative strength of gold & silver stock against gold prices simply by dividing the index by gold - $XAU /gold. Therefore a break above the downtrend line by the relative strength means that gold & silver stocks are outperforming gold itself. As you can see, this has been consistently a bullish signal.
Figure 1 Chart by Metastock
Figure 2 Chart by Metastock
The timeliness of this signal can be improved as well simply by waiting for a pullback. Figure 3 to 5 show that each breakout by the relative strength line was followed by a retracement to the trendline. These retracements have produced ideal buying opportunities for gold and silver stocks. As you can see in figure 3 this bullish setup occurred at the beginning of July and has since launched prices into a major rally. I know that this report would have been timelier then but my focus is on futures and therefore I sometimes overlook signals coming from stocks. That doesn’t mean that this report is of no use now that the signal has passed and that signals don’t occur very frequently. To the contrary, as you can see by looking at all of the charts in this report, breakouts often lead to rallies that span for many months. Although many gold & silver stocks may be overbought on a short term basis, this recent bullish breakout means that a wise trading approach would have investors/traders buying any retracement in gold & silver stocks. The current breakout has an initial target of 183 on the gold & silver index which is an appreciation of 16% from current levels. Therefore, there is clearly much more potential for gold & silver stocks even though we are a couple of weeks late into this rally.
With the processing power of computers, we sometimes become overly focused on oscillators and mathematical algorithms in an attempt to find a better tool for forecasting future prices. Although the latest technology may be more appealing than a pencil and ruler, this report is a glance at the foundation of technical analysis – the trendline – which is still as effective today as when it was first used. Most often simple methods are better, and I think the trend line as a forecasting tool is a good example of that. For more information on the use of trendlines, I recommend the book Technical Analysis of Stock trends by Edwards & Magee.
Figure 3 Chart by Metastock
Figure 4 Chart by Metastock
Figure 5 Chart by Metastock
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